On Friday, March 10th, 2023, the Federal Deposit Insurance Corporation (FDIC) took over Silicon Valley Bank (SVB), which signaled the largest bank collapse since the financial crash of 2008. The collapse was a result of a bank run, in which too many individuals attempted to withdraw money at the same time, and the amount surpassed cash reserves. Traditional banking allows banks to foresee disasters, and track withdrawals quickly enough to identify any issues. Online banking and its immediate access, while convenient, can lead to excess withdrawals happening at once with no way to foresee the disaster.
This is exactly what happened to Silicon Valley Bank on Thursday when depositors attempted to withdraw a quarter of their total deposits, totaling about $42 billion in one day. The collapse of the bank has spread fear and anxiety for all the start-ups that have invested in SVB, and all small businesses that rely on their banks for financial wellness. So, what does the collapse of Silicon Valley Bank teach small businesses, and what is the overall lesson to be learned?
Why Led to Silicon Valley Bank’s Collapse?
Silicon Valley Bank is the 16th largest bank in the United States and was the top choice for tech start-ups in need of funding. As a bank that is prominent in one of the most profitable areas in the country, a collapse doesn’t just happen overnight. There were decisions and downfalls leading up to the collapse to ultimately allowed it to happen. Two of the biggest factors that led to the collapse were interest rates and liquidity risk.
The bank at its peak had more than $200 billion dollars in assets and seemed to be a very stable institution. The bank purchased a large number of long-term securities at very low-interest rates back in 2020 and 2021. In March 2022 when the Federal Reserve rapidly increased interest rates, financial institutions were faced with the yield on debt increasing. Yields on debt refer to the rate of return for investors, and essentially means the value of an asset. When the yield on debt increases, the value of debt decreases. So, banks that fund loans and long-term debt saw their market value decrease as the interest rates continued to spike.
If the owner or investor holds onto the securities until maturity, losses won’t be realized. But, if they are sold early while the market value is lower, the losses will be realized. This is exactly what happened with SVB. At the same time, tech investors were withdrawing funds at higher rates which in combination with the losses happening behind the scenes, dug SVB into a deep financial hole.
Had it not been for social media and a very specific group of investors, Silicon Valley Bank may have had enough assets to handle financial stressors. However, the majority of the investors who had money in SVB were young Silicon Valley start-up pioneers who followed social media closely and took regular advice from one another. When SVB announced its plans to raise additional collateral, it spread fear across the industry. That fear drove a large number of investors to withdraw large sums of money all at once, causing the bank to surpass its cash reserves and essentially collapse.
What Happens to Depositor's Money Lost in SVB Collapse?
Many people are wondering, what happens to the money that was lost? Will clients get their money back? Under FDIC regulations, deposits up to $250,000 are automatically insured and protected in any bank. Deposits beyond that, unless privately insured, are at risk of being lost until the bank can raise their funds back. Most investors spread their deposits across multiple banks for this reason exactly, but SVB required the majority of their depositors to be exclusive with them in order to receive funding. It's estimated that 80% of securities in SVB were uninsured.
Silicon Valley Bank is assuring clients that they are raising the funds back to even out all their losses and that it is safe to continue working with them. However, this is not always the case. Any business that relies on funding from banks should diversify their banking, or opt for private maximum securities insurance through FDIC insurance. In some scenarios, it might be best to use one of the top four banks that are more stable and less likely to collapse.
While most companies have securities with other sources that can support them through the SVB situation, others do not. Some companies are facing an inability to fund payroll and leaving employees unsure of when their next paycheck will come. The moral of the story with SVB collapse is that anything is possible, and protecting your businesses ahead of time and planning for all scenarios is the only way to be safe.
Protecting Your Business from Unforeseen Risks
Insurance is a key aspect of business health and protection. The FDIC doesn’t hope for a bank collapse, but it still provides insurance to depositors as a means to prevent disaster in the event something happens. Businesses face financial losses from multiple angles every day. A proper risk management plan will include thorough insurance that tries to foresee risks that may not be likely to occur. Business insurance, property insurance, general liability, E&O, and auto are just the top-level coverages your small business should be carrying. The reality is that even the most unlikely of events can happen, and if there is any chance it would harm your business, you want to have a backup plan that will help you recover. Knowing that your business is protected by insurance can provide peace of mind and allow you to focus on growing your business and serving your customers.
Business Insurance with ECBM
As a small business, you may not realize all the risks you face. ECBM Insurance has enough experience and expertise to analyze your company and know what coverages will best support your risk management plan. Risks continue to complicate as our world continues to change and progress and professional support can ensure nothing slips between the cracks. Whether you have an insurance plan in place or would like to explore coverage for your new small business, ECBM can help. Contact us for more information.